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Sufficient red flags exist to justify a forensic audit of South Pasadena’s finances, but it “may not be practical” to commence one at this time, according to a long overdue report from the City Council’s Finance Ad Hoc Committee (FAHC). But the report, delivered this week to City Manager Arminé Chaparyan, said if the city fails over the next 12 months to follow through on various recommendations it outlines, then the audit would be “not only warranted, but necessary.”
The report was approved by the seven remaining members of the FAHC who were present for its final meeting Saturday in the back yard of Council Member Jon Primuth: Primuth, Council Member Jack Donovan, former City Council Member Stephen Rossi, Finance Commission members Peter Giulioni Jr and Fred Findley; and citizen members Gregory Chun and William Cullinane.
Commissioned in response to the city’s summer 2020 financial management meltdown during the tumultuous tenure of former City Manager Stephanie DeWolfe, the FAHC report makes over a dozen harsh findings detailing instances of “inaccurate statements,” potential conflicts of interest, potential “financial statement fraud,” lack of transparency, a “possible attempt to cover-up alleged asset misappropriation” and other suspected actions in connection with DeWolfe and/or city attorney Teresa Highsmith and a handful of other, mostly former city officials.
DeWolfe, now a consultant with CityGate Associates LLC, did not respond to a message seeking comment left at her office.
“It was not within the scope of the FAHC to make any conclusions as to whether any inappropriate activities” occurred, the report states. “Rather, it was the task of the FAHC to investigate whether red flags existed that would indicate inappropriate activities may have occurred.”
Deputy City Manager Domenica Megerdichian told the South Pasadenan News in an email Wednesday the FAHC report will be transmitted “to the Finance Commission, followed by the City Council.” It was placed with less than 72-hours notice as a “receive and file” item on tonight’s agenda for the Finance Commission’s previously scheduled “hybrid special meeting.” It is also slated for discussion at a newly announced extension of the special Commission meeting next Monday.
Also during the meeting tonight, the Finance Commission will receive a draft of the Annual Comprehensive Financial Report for fiscal 2020-21, which under state guidelines was due five months ago. The ACFR draft includes the city auditor’s review, which reports findings listing the status of four previously reported “material weaknesses” regarding bank reconciliations, accounting and management of capital assets, the year-end closing process and non-reporting of debt compliance, as well as the city’s action plan to resolve those matters.
The FAHC report also takes aim at the city’s law firm, Colantuono, Highsmith & Whatley, recommending the city “immediately proceed” with a request for proposals (RFP) for a new contract law firm, with the final selection to be made after this November’s municipal election.
In her email, Megerdichian told the South Pasadenan News the “City Manager is awaiting further direction from the City Council on the matter of the RFP for the legal contract.” But according to the minutes of its Sept. 1, 2021 public meeting, direction has already been given. Two city council members–Evelyn Zneimer and Michael Cacciotti–moved that day to agendize an RFP for a new law firm “at a reasonable future city council meeting at the city manager’s discretion.”
Regardless, the report also said the city should codify a policy to prohibit having one law firm provide both city attorney and litigation services; prepare a comprehensive review of the city’s estimated legal liability; and restore recently abandoned legal cost reporting practices. These are in response to findings in the report.
In another key recommendation, the report said the city should consider establishing a new independent internal auditor position. Had existing city policies been followed, many of the findings in the report could have been prevented, it states. But the city manager is the only city employee who reports directly to the council and is under its sole supervision, and therefore “a potential for a conflict of interest is created.” An internal auditor reporting to and compensated by the council could act independently of the city manager and the finance department, the report explains.
The report discusses particular names and events in detailing its 15 findings, which it grouped into six categories:
1. Management failures in managing and hiring finance department personnel led to high staff turnover and new, relatively inexperienced and, in some cases, unqualified staff.
2. The finance department reorganization and the procurement of the Citygate report were undertaken in circumstances that give rise to questions about a possible lack of transparency, possible attempt to cover-up alleged asset misappropriation, and potential existence of a conflict of interest by [former] City Manager DeWolfe.
3. The finance department did not have, and did not follow, important internal controls, policies, and processes.
4. The city did not comply with its own purchasing policy.
5. The city did not have policies or procedures for administering its legal liability reserve.
6. The city decreased its financial transparency by reducing the detail and frequency of its financial reporting to council.
Council authorized the FAHC in October 2020 after finance reporting delays, combined with questions about and discrepancies in budget documents, led the city to postpone adoption of its 2020-21 budget. FAHC was charged with overseeing completion of the city’s comprehensive annual financial report, its 2020-21 budget, updating city financial policies and procedures, recommending new reporting timelines, and determining the need for a forensic audit.
Most of that work was done by late last year, but the commission struggled for months over how much detail to include in its findings and the particulars of its key conclusion on a forensic audit. During an Oct. 6, 2021 meeting, the panel discussed whether its findings were sufficient to justify the dramatic step of recommending a forensic review—the kind of audit normally called for when fraud, embezzlement or other financial crimes are suspected.
“There’s a lot here we went through that was not good,” said Greg Chun a long-time private equity acquisition advisor. “There were enough items that I saw that I am pretty uncomfortable with. If this was within one of my portfolio of companies, I would want to dig significantly further.”
But the report concluded “given the number of years that have transpired since the bulk of these actions took place, the significant financial cost associated” with doing a forensic audit and the “prior removal/resignation of many then-acting city officials potentially involved,” a full blown audit “may not be practical.”
Chun also said demanding a forensic audit would simply be “dragging the city through more muck.” Citizens already know the story, if not the gory details, he said. On the other hand, “if we don’t say anything, it’s just going to be another group that says, ‘let’s ignore it’ and I am not comfortable with that.”
The report’s carefully worded recommendation reflects the panelist’s struggle, which was aptly summarized during the October meeting by Jon Primuth, one of two City Council liaisons to the FAHC, who said the situation had become “[like the] Mueller report” on Russian meddling in the 2016 election. “You can’t say no crime occurred, but you can’t say a crime did occur.”
The recent history of the FAHC has been complicated. Meeting in secret, it finished most of its work late last year but continued to exist through winter and spring, even as two of its original members, Charles Li and Finance Commission chair Ed Elsner, resigned. On February 23, the city manager said the FAHC had completed its work but that a “subset of the committee” was still preparing “a final report to staff, expected in Spring 2022.” She said the committee would automatically dissolve after issuance of the report.
Although the FAHC meetings were not public and much of the work was carried on by email, the report offered, for the first time, links to two recorded meetings held Oct. 6, 2021 and March 9, 2022.
In his staff report for tonight’s Finance Commission meeting agenda, Interim Finance Director Ken Louie said he said will work with the city manager to make timely financial reports, and said a recruiter is being hired to help with the hiring of a new finance director.
The city has not had a permanent finance director since August 2020 and the city manager has indicated the recruitment process has been difficult. Louie, a retired state finance director, is slated to serve in his current role until a new director is hired, or through the end of year, whichever comes first.
“It is under the city council’s purview to direct staff on any further action in response to the findings or recommendations within the [FAHC] report,” Louie wrote.
FAGC member Peter Giulioni, Jr., a former partner at Deloitte Consulting, assistant dean at the USC Marshall School of Business as well as a recently-appointed member of the standing city Finance Commission, was asked what he sees as the next step. First and foremost, he said he hopes the report “will replace rumor with fact” and that members of the community will say people they know and trust looked at the situation and made their report. He said he is open to a public discussion of the report, but as a member of the FAHC and the Finance Commission, does not intend to initiate such a discussion himself.
Josh Betta, the former city finance director whose work helped trigger the events that led to the FAHC report, called the work “exhaustively researched and detailed. The report makes highly credible allegations of, among other things, potential fraud, embezzlement, conflicts of interest, illegal contracting, secret city council meetings, and various forms of misbehavior in the city attorney’s office.” It shines a light “on a corrupt city hall culture managed and manipulated by the city council. The public deceptions were to-the-bone chilling.”
But he said a lot has changed over the past two years. “An internal audit may not be necessary if new City Manager Arminé Chaparyan is actively encouraged to publicly address issues raised in the report while continuing her commendable work designed to heal a broken city organization.”
However, Betta said it is also “time for the city council to lead with selflessness and reverse its failures as a public employer through the logical first step: a written public apology adopted by the city council in open session.”
